Sageworks develops financial analysis tools and provides private company financial information. By doing so, we hope to help people make better financial decisions. Read more on how Sageworks aggregates financial data on private companies on our website; https://www.sageworks.com/

Community Banks As Incubators? Good For Startups And Communities

Recently, I caught an episode of a new TV series called “Silicon Valley.” It’s about six programmers trying to launch a startup out of their living room and the comedy that ensues as they strive to obtain funding and launch successfully. It’s a pretty self-effacing view of ‘The Valley’ and offers a glimpse at some of the real challenges early-stage businesses face and why so many of them fail.

It’s not hard to appreciate the support—strategic, operational and financial—needed to get a new business off the ground. This is why business incubators are a popular practice in the venture capital community: investments must be protected and nurtured.

What’s an incubator? In simplest terms, it’s a program that fosters new-company growth by centralizing functions like HR, legal and finance, in order to free up company founders to focus on their core competency. It’s an invaluable opportunity for select, early-stage businesses to receive not only financial support, but also experienced, go-to-market advice from peers and mentors.

Though my clients don’t typically lend to the tech industry, I’m intrigued by the incubator model as a practice worth translating to financial services, particularly community banks. When you think about the role of community banks—as stewards for their communities and customers—they seem a natural fit to serve as a central resource, or incubator, for the next generation of small businesses.

The upside to both parties is tremendous. On one hand, small businesses would receive support and guidance through financial education, potential access to loans, access to peers and entrepreneurs that could validate their business model, offer feedback, share their network and provide referrals. They may pay a lower cost of capital, too, given that data from Pepperdine University’s cost of private capital survey shows loans have the lowest average rates while capital obtained from angels and venture capital firms have the highest average rates.

On the other hand, community banks would develop trusted relationships with solid businesses that could one day become safe, sound and ideal prospective customers.

That could be especially important as competition in lending heats up. A new survey from Sageworks, a financial information company, shows that financial institutions are planning to make more loans to businesses in 2014 than in 2013. “There’s a possibility that banks and credit unions may be recognizing a slow but steady improvement on the income statements and balances sheets of privately held companies that are applying for loans,” said Tim McPeak, a director in Sageworks’ Financial Institutions Division.

Additionally, the results of the Fed’s April 2014 Senior Loan Officer Survey noted that, “Every domestic respondent that reported having eased either standards or terms on C&I loans over the past three months cited more-aggressive competition from other banks or nonbank lenders as an important reason for having done so.”

Consider, for instance, how such a program could help a community bank whose loan growth is stagnant and current pool of promising small business customers is limited. Through establishing an incubator program, the bank could build a stronger, more sustainable pipeline to support its future development by buoying up the number of viable businesses within market reach. Return on capital rates may also be more favorable than for existing loan programs at the bank.

In these ways, incubators can have a compounding effect. Helping startups succeed isn’t just a springboard for those businesses; it’s also a proven way to launch a community’s economic growth forward. After all, privately held companies drive 50% of non-farm GDP and 65% of new job creation. And propelling a community’s economic growth is a big deal for any community bank. But to get there, it’s not enough to just be a bank that entrepreneurs need to go to—become the bank they want to grow through.

Sageworks, a financial information company, collects and analyzes data on the performance of privately held companies and provides risk management solutionsto financial institutions.

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